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Speculation Plummets - Prices Down - Rig Count Up - Production Up
During the week ending April 28th, the spot month diesel futures price decreased by 4.93 cents per gallon (-3.17%) while the deferred months decreased by 2 to 6 cents per gallon making the forward pricing curve lower and more positively sloped. The one year forward price ended the week at a 7.76 cent premium to the spot price, from a premium of 6.21 cents at the end of the previous week.
The level and slope of the diesel forward pricing curve indicates lower demand expectations and higher inventories with respect to demand. Demand includes speculative demand which decreased sharply on the week. When the forward pricing curve decreases in slope (more negative or less positive), this usually indicates tighter inventories and is generally positive for price. When slope increases, this usually indicates more plentiful inventories and is negative for price.
During the week ending April 28th, the spot month gasoline futures price decreased by 9.65 cents per gallon (-5.87%) while the deferred months decreased by 2 to 10 cents per gallon making the forward pricing curve lower with a generally higher slope. The one year forward price ended the week at a 7.42 cent premium to the spot price, from a premium of 2.22 cents and the end of the previous week.
The change in level and shape of this forward pricing curve indicates generally lower demand expectations and higher inventory levels with respect to supply and demand. Demand includes speculative demand which was lower on the week.
The US dollar was lower on the week which is positive for price. Inventories on the week were higher which is negative for price. The stock market, as a proxy for demand expectations, was higher which is positive for price. Speculation was lower on the week which is negative for price. US domestic crude production was higher which negative for price. Domestic production is now positive year over year and is up 3.66% on a year over year basis. Oil rig count indicating the number of oil wells currently being developed by drilling was up on the week which is negative for price.
Weekly US petroleum demand decreased by 1.70% during the week ending April 21st. Domestic demand is down by 2.23% vs. one-year ago and demand is currently 3.00% above the five year average.
Domestic production increased for the 10th week and is 3.66% above year ago levels. The number of operating oil drilling rigs in the US increased by 9 and stands at 697. This is 381 more than the recent low of 316 and 56.68% lower than the peak of 1609 in October 2014. The increasing rig count is causing US production to stabilize and grow as the global rebalancing of supply and demand continues. US domestic production has increased by 837,000 barrels per day (+9.93%) since the recent low on July 1, 2016 and has decreased by 345,000 barrels per day (-3.59%) since the peak of 9.61 million barrels per day in June 2015.
Below is the one-year chart of spot diesel futures prices as of April 28th.
Below is the one-year chart of spot gasoline futures prices as of April 28th.
MARKET FACTORS & COMMENTARY:
: : Inventories increased by 2.38 million barrels while inventories were expected to decrease by 2.27 million barrels on the week. The five-year average inventory increased by 2.99 million barrels. Inventories decreased vs. the five year average and increased vs. expectations.
: : Libya re-opened its largest field that had been shut in. This will increase supply in the near-term and is negative for price.
: : OPEC efforts to cut supply are being diluted by increase in American production. Should this trend continue, OPEC will not be able to cut enough supply to support price and price will ultimately decrease.
: : Russia is now in full compliance on its promised production cuts of 300,000 barrels per day. This is decreasing supply and is supportive for price.
: : Saudi Arabia decreased production by 330,000 barrels per day in April vs. March. This shows that production cuts from OPEC are gaining traction. Currently OPEC is near 100% compliance with their production cuts announced at the end of November. This has supported price but has also attracted non-OPEC supply to the market which is weighing on price.
: : The Stock market decreased by -1.13% which is negative for economic and petroleum demand expectations and prices.
: : The US Dollar decreasing by -0.66% on the week is positive for petroleum price. Commodities are used as a hedge against inflation and against a falling dollar. A stronger dollar reduces the relative demand for commodities for this purpose and prices decrease accordingly. Conversely, a weaker dollar increases relative demand for commodities and prices increase.
SUPPLY & DEMAND:
The chart below shows supply and demand history and expectations as of April 2017. Supply and demand are in the process of re-balancing which is the main cause of steady to higher price levels over the past 6 months. This forecast shows a relatively balanced market in 2017 which generally indicates firmer and volatile prices moving forward. The forecast also indicates that a surplus is forecasted for the first half of 2018. This period of balance and surplus will mitigate any upward price movements.
Below is the one-year chart US stock market prices as of April 28th.
Below is the one-year chart for the US dollar index as of April 28th.
During the week ended April 21st, total petroleum inventories increased by 2.38 million barrels vs. a five year average increase of 2.99 million barrels and vs. an expected decrease of 2.27 million barrels. Inventories decreased by 0.61 million barrels vs. the five year average and increased by 4.65 million barrels vs. expectations. Total inventories stand at 920.7 million barrels, up from 918.3 million barrels at the end of the previous week. The five year average inventory is 759.8 million barrels, up from 756.9 million barrels at the end of the previous week.
Current inventories are 21.16% higher than the five year average, down from +21.33% at the end of the previous week.
As of April 25th, the net speculative long position in petroleum futures was 300,515,000 barrels, down 90,427,000 barrels (-23.13%) from the previous week. Speculation decreased for the first time in four weeks and represents 32.64% of domestic inventories. Speculation is 2.12% above its one year moving average. The corresponding spot month diesel futures price on April 25th was 154.52 cents per gallon, down 7.67 cents from 162.19 cents per gallon during the previous week.
Diesel fuel price and size of speculative net long position in petroleum are 87.24% correlated over the past 52 weeks indicating that, on a statistical basis over the past year that 76.11% of diesel fuel price movements are explained by changes in level of speculation.
The net speculative long position has been variable over the past year ranging between 89 million and 488 million barrels with an average of about 294 million barrels, which is up about 2 million barrels on the week.
Based on a multiple regression analysis considering the level of the dollar, speculation, and inventory over the past five years as of April 25th, the market price for spot month diesel futures is estimated to be 130.93 versus the actual price of 154.52. This indicates that the market is currently overvalued by 23.59 cents per gallon given the assumptions of the pricing model.
Linwood Capital, LLC is an institutional fuel hedging management, advisory, and consulting firm. Linwood creates and manages customized fuel hedging programs for institutional consumers of petroleum and natural gas.